Apple’s upside may hinge on new products

The downspin for Apple Inc.’s shares over the past couple months has put the stock near its lowest valuation in at least a decade, but one analyst said Tuesday that recovery for the shares is not likely to come from investors deciding to assign a higher multiple to the business.

The stock took another spill on Tuesday, with Apple
/quotes/zigman/68270/quotes/nls/aaplAAPL trading down more than 2% to $573 by late morning. In an early note to clients, Steven Milunovich of UBS said he remains bullish on Apple, but added that “significant P/E expansion” is unlikely for the shares, which are currently trading about 11.2 times the company’s estimated earnings for the next four quarters — more than 60% below its average multiple for the last 10 years, according to data from FactSet.

The lowest forward P/E seen by the stock in that period was 10.3.

“The experience of Google and Microsoft suggests that P/E expansion largely is over once margins peak and earnings growth moderates,” the analyst wrote. “Even bursts of faster revenue growth don’t tend to boost the multiple.”

The fear that has crept over Apple’s shares over the last two months has been a combination of worries about lower gross margins going forward, as near-term launch of so many new products like the iPhone 5 and iPad mini will crimp profitability in the next couple of quarters, and that wireless carriers may start pushing back on the high subsidies they pay to Apple to sell the iPhone, which is a major source of the profits on the device.

The other big fear over the shares is the lack of a catalyst from new products. Apple rode to an all-time high leading up to the launch of the highly anticipated iPhone 5, and the fact that all of the company’s products saw a major re-design this year means the coming year is likely to see only incremental changes to the products — unless Apple finally launches its long-rumored TV set.

Still, Milunovich rates Apple shares as a buy, with a price target of $780 that is about 36% above the stock’s current level. He believes strong sales of the new products are still likely to drive the stock higher.

“Although we don’t expect much multiple expansion, new products still have the potential to drive earnings growth and create value by earning cost of capital,” Milunovich wrote. “More important than gross margin dilution is whether new offerings increase operating profit.”

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